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June 11, 2020

Creating Personal Financial Opportunity During a Downturn

COVID-19 has created a global economic slowdown and has led to unprecedented volatility in stock and bond markets. As economists debate the extent of the possible downturn and whether recoveries will be V-, U- or W-shaped, investors envision potential opportunities during this difficult environment.

Roth Conversion

The SECURE Act of 2019 in conjunction with the current market downturn has raised the question – Is it an opportune time to convert a traditional IRA to a Roth IRA? If you are an investor who cannot contribute to a Roth IRA due to income limits or you are looking to help beneficiaries down the road, a Roth conversion could be a great solution.

Current regulations allow individuals to convert all or part of a traditional IRA to a Roth IRA, regardless of income level. When this occurs, the asset value converted is deemed taxable income for the owner in the year of conversion. Implementing this change when market values are lower will clearly reduce the taxable event. Another strategy is to stagger the Roth conversion over multiple years to ease the tax burden in one given year. If you decide to stagger, consider how much additional income would bump you into the next tax bracket and stay below that threshold. Five years after a Roth conversion, withdrawals are tax free.

Roth conversions are more effective when the taxes are paid with assets outside of the IRA. If you pay the taxes from the IRA, you reduce the compounding effect by the amount paid in taxes plus the potential tax-free growth on those assets. The longer your time horizon, the greater likelihood that the tax-free growth of a Roth IRA will outweigh the taxes paid.

The SECURE Act ruled that most inherited IRAs now have to be distributed within ten years, eliminating the opportunity for beneficiaries to stretch an inherited IRA over their lifetime. This provision could adversely affect those inheriting traditional IRAs by moving them to a higher tax bracket and increasing their tax bill. In comparison, those inheriting a Roth IRA do not pay taxes on the distributions. Lastly, for Roth IRAs, the absence of required minimum distributions during an owner’s life presents the opportunity to pass on more tax-free retirement assets.

Tax Loss Harvesting

If you are an investor with taxable assets in a portfolio, the pullback may have created unrealized losses. Some investors are “harvesting” those losses to realize the benefit of the tax law that allows taxpayers to offset capital gains with capital losses. If your losses exceed your capital gains, taxpayers can carryforward those losses for future years’ returns. When harvesting losses, investors must be careful to not trigger a “wash sale.” A wash sale is the sale of a security at a loss and repurchase of the identical security within a short period of time (30 days). If an investor sells a position at a loss and buys the same security back in that 30-day time frame, the IRS disallows the loss. Some investors seeking to harvest losses sell those positions that have losses and purchase a similar security to stay invested. After 31 days, the investor can reestablish the original position by selling the replacement security and repurchasing the original security.

Winston Churchill once said, “An optimist sees the opportunity in every difficulty.” If your portfolio has seen difficulty and you want to take advantage of any of these potential opportunities, we encourage you to consult with your investment and tax advisors.

By DEDE FERRY | dferry@cbiz.com | 216.520.6631

 

 

Investment management services to individuals, corporations, trusts, endowments and foundations offered through CBIZ Investment Advisory Services, LLC, SEC Registered Investment Adviser. For information about additional service offerings, please see the Form ADV 2A for CBIZ Investment Advisory Services, LLC at adviserinfo.sec.gov.

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